星巴克 (SBUX) 2014 Q2 法說會逐字稿

Good afternoon.

My name is Mike and I will be your conference operator today.

At this time, I would like to welcome everyone to Starbucks Coffee Company's second-quarter FY14 earnings conference call.

(Operator instructions)

Thank you, Ms DeGrande, you may begin your conference.

Thank you, Mike.

Good afternoon.

This is Joanne DeGrande, Vice President of Investor Relations for Starbucks Coffee Company.

Joining me on the call today to discuss our second-quarter results are Howard Schultz, Chairman President and CEO; Troy Alstead, COO; and Scott Maw, CFO.

Also joining us for Q&A are Cliff Burrows, Group President in US and Americas; John Culver, Group President in China, Asia-Pacific and Channel Development; and Adam Brotman, Chief Digital Officer.

This conference call will include forward-looking statements, which are subject to various risks and uncertainties that could cause our actual results to differ materially from these statements.

Any such statements should be considered in conjunction with cautionary statements in our earnings release and risk factors discussions in our filings with the SEC, including our last annual report on form 10-K.

Starbucks assumes no obligation to update any of these forward-looking statements or information.

This conference call is being webcast, and an archive of the webcast will be available on our website at investor.Starbucks.com.

Before I turn the call over to Howard, I would like to announce the date of our next biennial analyst conference.

That would be December 4 of this year.

And although we are in the early planning stages and will not be formally sending out invitations soon, it is important to note that we will be hosting this event in our home market, Seattle.

We hope you'll be able to join us for the first conference in Seattle since 2006.

I would now like to turn the call over to Howard Schultz.

Howard.

Thank you, Joanne.

Welcome everyone on today's call.

I'm very pleased to comment on the record second-quarter results that Starbucks announced today and to provide details around several exciting, new initiatives we have underway.

Q1's momentum continued in Q2 with each of our retail segments around the world contributing positively to global comps for sales increase of 6%, representing our 17th consecutive quarter of comp growth of 5% or greater and record Q2 revenues of $3.9 billion.

Particularly noteworthy was the 7% comp increase delivered by our China and Asia-Pacific segment and the 6% comp increase delivered by our EMEA segment.

The strongest comp growth in EMEA in 14 quarters.

EMEA's performance in Q2 provides powerful evidence of the success of our continuing efforts to transform that important region where we currently operate 2,065 stores and to position EMEA to resume delivering revenue growth in operating, profitable new stores fulfilling a commitment we made on prior calls.

Record revenues combined with reduced operating costs to drive 130 basis point increase in consolidated operating margin to 16.6%, enabling us to deliver an 18.4% or $100 million increase in operating income to $644 million and a 17% increase in earnings per share after excluding last year's non-recurring gain to a Q2 record of $0.56 per share.

In January, I shared with you our new senior leadership organizational structure.

Central to the new structure is Troy Alstead's promotion to Chief Operating Officer.

Today, Troy is focused on day-to-day execution and operational excellence across Starbucks business, providing me with the additional time to focus on driving faster, profitable growth and bolder, more constructive innovation across our company and around the world.

I will provide you with a preview of what to expect from us in the quarters ahead and then turn the call over to Troy and Scott Maw, our new CFO, who will take you through our Q2 operating and financial results in detail.

Over the last several years, we have further honed our best in class retail site selection, store development and design and construction expertise.

The best evidence of that fact is the tremendous success of our new store class.

Sales to investment ratios of over 2 to 1, ROI -- return on investment in excess of 50%, and first year average unit volumes are over $1.2 million dollars, all while delivering an enhanced experience to our customers.

Several years ago, we saw an opportunity to reinvent the traditional QSR drive-through format, and as a result, our new class of drive-through stores are providing Starbucks with a unique ability to connect with the increasing numbers of our customers on the go.

Highly profitable drive-throughs represent a significant growth opportunity for us and continue to remain a focal point of our store development efforts.

And with this tremendous success of our recently introduced, award-winning design, drive-through only stores with walk-up windows, we are leveraging our drive-through store portfolio through high, further incrementality and add another new runway for growth that is strategically complementary to our high profile, urban street front locations.

Despite currently operating over 20,000 Starbucks stores in 64 countries, our research clearly demonstrates that our Starbucks -- that Starbucks still accounts for a very small share of total global coffee occasions, and that we are significantly understored in many markets, including North America, China, Brazil and India, today our fastest growing international market.

Over the months and quarters ahead, you will see us execute against the disciplined, highly targeted retail store development and roll-out program.

Turning to coffee and tea.

Coffee will always be at our core and we are making significant investments across our business, including building our supply chain capabilities and elevating and operating standards to ensure that we continue to innovate and provide global thought leadership and undisputed authority in coffee quality sourcing and roasting.

At the same time as I previously mentioned, we recently purchased our first operating coffee farm in Costa Rica and opened our seventh agronomy and farmer support center, this one in Ethiopia.

As I said in the past, tea is the most consumed beverage on earth, behind water, and represents a $90 billion global category that we strongly believe is ripe for innovation and that represents an enormous global opportunity for Starbucks.

And we are seizing that opportunity with Teavana.

Teavana sources and offers consumers the highest quality estate teas available anywhere in the world.

By summer, Starbucks customers will be able to sample and experience a full range of Teavana branded, hand-crafted tea beverages, loose leaf teas and tea merchandise inside their local Starbucks stores.

At the same time, we are putting the full power of Starbucks digital, mobile, social and rewards program against all of the assets we have against the Teavana brand, affording us the unique ability to target and connect with consumers, providing us with an unparalleled competitive advantage in the marketplace.

Following the opening of our Teavana Tea Bars in New York and Seattle, we will be expanding the concept to Chicago, Los Angeles and additional locations in New York City in the months ahead.

And that is not all.

Not nearly all.

Last month, we announced a one-of-a-kind partnership with Oprah Winfrey.

And starting this coming Tuesday, supported by a comprehensive national advertising and marketing campaign, specially blended Teavana Oprah Chai will be available in Starbucks and Teavana stores across the US and Canada, enabling us to further leverage and elevate Teavana brand.

Importantly, for every Teavana Oprah Chai tea beverage or products sold, a donation will be made to the Oprah Winfrey Leadership Academy Foundation to benefit educational opportunities for youth.

A program that we at Starbucks could not be more excited about supporting.

In the months and quarters ahead, you will see firsthand how Starbucks will disrupt the tea category in ways large and small that will be reminiscent of how we changed the coffee category.

At the same time as we extend our coffee leadership and authority all over the world.

Customized beverage innovation continues to be a core strength of our company and an area of great interest to our customers.

We have a fantastic lineup of cold refreshing beverages ready for our customers as the warm weather arrives, with many markets experiencing Fizzio, Starbucks new platform of hand-crafted, cold carbonated beverages for the very first time.

Last summer, we tested Fizzio in select markets in the US and Asia, and following the overwhelming success of those tests, we will be rolling Fizzio out to 3,000 stores across the US sunbelt, in Singapore, Korea, and several cities in China this summer.

We are launching the Fizzio brand with three fantastic flavors: Ginger Ale, Spiced Root Beer and Lemon Ale.

We will be adding additional locally relevant flavors as the summer progresses.

Fizzio combines a healthy, all natural, preservative-free alternative to sugar-filled sodas with the theater of a custom, hand-crafted beverage that I am convinced will be a big hit with consumers and drive traffic in incrementality during the key afternoon day part, just as it did in the test markets last summer.

Last quarter, we called your attention to a seismic shift in consumer behavior and migration from bricks and mortar retailing to the web and E-commerce.

While many retailers, including many food and beverage QSRs, continue to grapple with how to navigate these shifts, Starbucks record Q2 results unequivocally demonstrates how the investments we began making years ago to create the world's premiere portfolio of digital, social and mobile technology assets are paying off and in a very big way.

Our integrated gift card, loyalty, social and mobile platform is bar none the largest and most successful in the world.

Consider these measures.

Today Starbucks card program is available in 28 countries.

Card transactions now account for over one-third of all transactions in the US and Canada stores.

Over 10 million Starbucks customers are actively using our mobile app, twice the number from only a year ago.

And mobile payments now account for over 14% of tender in our company-operated stores in the US and Canada, rising 75% from just a year ago.

Over 8 million active My Starbucks Rewards members are earning rewards in the form of stars with purchases, representing 25% of all transactions in our US company-operated stores.

And our first of its kind, cross channel, Stars Down the Aisle program has awarded more than 5 million stars to customers purchasing packaged coffee in US grocery stores since the program debuted last July, demonstrating the value and the early-stage opportunity of what we are calling Stars as Currency.

Together, our best in class card loyalty and mobile assets enable us to deepen our connection to our customers and create further separation from competitors.

More than that, we believe that to be successful today, a pure-played bricks and mortar consumer retailer must create a high degree of mobile, social and digital engagement and develop a seamless relationship with customers.

We further believe that accelerating global adoption of smart phones and mobile technologies in general will continue to transform and evolve the retail landscape in areas of payment, loyalty and consumer experiences in years to come in ways that just a year ago we probably could not conceive of.

Today, as the retail industry's unquestioned leader in mobile payment and mobile loyalty, we are uniquely positioned to leverage our digital leadership and to both develop and monetize new platforms, revenue streams and opportunities for growth in ways that will be highly complementary to our existing core business and our customer base.

By way of example, major tech companies and retailers have recently begun inquiring about whether or not Starbucks would be willing to license and/or white label our technology and mobile platforms.

We are taking a very thoughtful and disciplined approach as we consider these overtures and what we believe will ultimately prove to be a very significant additional driver of long-term share value.

You will be hearing much more about our plans around mobile, digital and loyalty in the months and quarters ahead.

Let me close by underscoring that despite our size and scope, the Starbucks brand and business is still in the very early stages of its growth and development.

The day-to-day management that our senior leadership team is providing the organization is framing up to lead the company into and through the tremendously exciting next phase of break-through innovation and acceleration.

Global growth lies ahead in ways that possibly we probably could not believe just a few years ago.

I strongly believe, unequivocally, that there has never been a better or more exciting time to be a Starbucks partner.

With that, I'll turn the call over to Troy.

Thank you, Howard.

And good afternoon, everyone.

Our record second quarter was the outcome of the continued strong efforts of each of our four reporting segments.

Our business remains extremely healthy and poised for continued growth, with all retail regions growing revenue at rates faster than industry and channel development business just beginning at the top line acceleration.

I'll spend the next few minutes discussing the performance of these business, then we'll turn it over to Scott for a discussion of our consolidated results, segment margins and our outlook for the balance of the year.

Let me start with the Americas segment, which delivered another quarter of solid results in a persistently difficult retail environment.

Total net revenues in the Americas grew to $2.8 billion in Q2.

Up 8% over the prior year.

The largest driver of our revenue increase was the strong comp growth of 6%, with 3% coming from ticket growth and increased traffic contributing 2%.

Encouragingly, both traffic and ticket growth accelerated throughout the quarter.

This, combined with a healthy pipeline of innovation ready to hit our stores in Q3, gives us great optimism for the back half of the year.

One key component to our momentum is food.

With food attached to only about one third of US transactions, elevating our food program to the level of our coffee excellence represents both a top priority and significant business opportunity for us.

We're making great headway.

La Boulange has significantly improved the quality of our bakery offerings.

And now in 6,000 US company-operated stores and another 2,500 licensed stores, it's driving results as well, helping the food category contribute 2 points of comp growth in the second quarter.

We continue to make enhancements throughout the lineup and, as a result, as we expand to new cities and leverage the operational earnings from those before, we see stronger and stronger results after launch.

We remain on track to complete the bakery rollout across all US company-operated stores before the end of September.

And thanks to the strong result and demand from our licensees, we will complete the rollout across all US licensed stores this year as well.

Add to this our successful new breakfast sandwich offerings, which launched nationwide March 4, and have already lifted sales of those products by nearly 50%.

As our bakery rollout completes, we will turn our attention to food and other day parts, including lunch.

We have significantly advanced our lunch program of bistro boxes, panini and salads over the past few years.

But there is a much larger prize here, and we're ready to go after it.

We have begun testing different lunch options and are narrowing our focus to the best performers based on results thus far.

To ensure we have the right products relevant to our customers and to the day part, and to ensure strong execution when we're ready to roll out the new lunch program, we will move deliberately through the test but with a strong purpose.

And as we roll out our enhanced lunch program next year, complemented by a diverse beverage lineup, including Teavana tea and hand-crafted sodas, we absolutely believe Starbucks stores across the US will increasingly be seen as destination for a quick, delicious and high quality lunch.

Now, let me wrap up this discussion of food by saying very clearly that food is a huge opportunity and future growth driver.

And we are already seeing very clear and tangible success as we roll the program throughout our stores.

Specifically, food was the single largest incremental driver of comp growth in the second quarter, and food attach is clearly and consistently higher after the launch of La Boulange in the market.

Most importantly, we're delighting our customers in new ways with amazing food and will continue to elevate these food experiences across all day parts.

Speaking of day parts, I will now talk briefly about what is becoming another opportunity for us going forward.

That is our evenings program.

We have tested the evenings program for the past few years in selected stores across several markets with great results.

The evenings food offerings combined with beverages, including wine and beer, driving meaningful increase in sales during that time of the day.

Which has opened up to us an entirely new opportunity to provide great experiences to our customers and to drive incremental sales and profitability through the stores.

Based on these results, we are no longer testing evenings.

We are now moving forward with the rollout of the program in a disciplined way over multiple years.

Ultimately, I would expect certainly greater than 1,000 stores across the US to have an evenings offerings.

Our average ticket grew 3% in Q2.

As I mentioned, food was a driver as was favorable beverage mix and pricing.

Both limited time and new core beverage offerings continue to resonate with our customers.

Our winter and spring promotion featured Carmel Flan, which delivered growth even over last year's tremendously successful Vanilla Spice promotion.

And the introduction of Vanilla Macchiato was very well received, delivering incremental transactions at a higher price point.

Additionally, we're just beginning to leverage our vast My Starbucks Rewards member customer base to deliver meaningful marketing and promotions to the right person at the right time.

While the absolute number of offers we're sending is increasing, each one is going to smaller more precisely segmented sets of members.

The effect of this is that our members receive offers relevant to them and ones they take advantage of.

As our membership base and our intelligence in this area grows, this will be an important tool to increase customer frequencies and improve already strong retention.

We continue to be pleased with the growth of our licensed stores in the Americas as well.

We grow double-digit revenue growth in our Americas licensed store business fueled by strong comp growth in grocery stores, as well as our licensed Latin America markets.

Moving now to EMEA where our momentum continues to build with each quarter.

Q2 was outstanding in every way in what is our season's softest quarter for revenue growth at its highest growth in two years, comp growth at its highest rate in three years and profitability more than tripling over last Q2.

Revenue growth in the EMEA of 13% to $310 million was a function of favorable foreign currency exchange, strong comp growth and strong licensed store growth.

Comp growth of 6% was driven by a 5% lift in transactions and a 1% rise in average ticket.

We continue to show strong improvement across the region, especially in the UK, where a team focus on operational excellence continues and results are very evident, especially during the morning peak.

The improved product lineup is also contributing, bolstered by the now complete upgrade of the breakfast program.

The shift to higher quality offerings, as well as the addition of certain healthier options, has been well received.

And certainly a continually improving economic climate in the UK has also contributed.

As good as our company-operated growth was in the EMEA Q2, licensed store growth was even stronger.

The Middle East continues to outperform the comp growth in the double digits, while excellent results continued from Russia and Turkey among others.

The strong performance in these markets supports our licensed, focused growth strategy in the region, where today nearly 60% of our stores are licensed, up nearly 5 percentage points from just a year ago.

In China and Asia-Pacific, the continuity of high margin growth fuels our long-term aspirations for this dynamic region.

CAP total net revenues grew 24% to $265 million in Q2.

This is the 14th consecutive quarter of revenue growth in excess of 20%.

In fact in 2010, the first year we reported CAP as a separate region, revenues totaled only $407 million.

Now in 2014, we are well on our way to exceeding $1 billion in annual revenue.

It is an impressive growth trajectory for a tremendous market and a testament to the passion of our partners throughout Asia to deliver a fantastic Starbucks experience day in and day out.

Our future in CAP remains extremely bright.

The largest driver of our Q2 revenue growth was from new stores, which totaled 174 net in the quarter and nearly 700 for the past 12 months.

These new stores are delivering outstanding first-year sales and generating strong first year profitability.

And the welcoming, sophisticated new store designs are enhancing our already strong brand reputation in the region and driving trials in new customers.

Our existing stores are also thriving, delivering 7% comp growth in Q2, all as a result of increased traffic.

This included a sharp decline in comp growth in Thailand where the impact on the consumer from political instability weighed on the previously strong traffic trend.

China grew even faster than the region overall and accelerated over the first quarter, with low balance contributions from seasonal promotions, court beverages, tea and food.

Finally, let me touch on our channel development business which, again, contributed nicely to our record Q2 performance and is primed for a strong second half of fiscal 2014.

Revenues of $370 million represented 10% growth in Q2, in line with our previous guidance accelerating throughout the year.

Our diverse premium single cup portfolio was, again, the largest driver of revenue growth.

We continue to gain share of the K-cup market, experiencing 33% growth in dollar sales for the quarter in US food, drug, and mass channels.

And our recently amended agreement with Keurig Green Mountain will help drive additional future growth and profitability from this platform.

We are nearing the anniversary of the May 2013 price reduction taken on packaged coffee.

Encouragingly, we reached 10% revenue growth in Q2 even with this headwind.

As that pricing, in effect, normalizes in the second half of the fiscal year and as we continue to innovate in this space, we see packaged coffee as another growth driver that will sustain channel development's double-digit revenue growth.

Now I'm going to turn the call over to our new CFO, Scott Maw, to take you through consolidated results and targets for the year.

Scott.

Thanks, Troy.

Good afternoon, everyone.

I'm pleased to join you on my first quarterly earnings call as CFO.

It was an outstanding quarter as our global operations continued to produce record-breaking results.

We delivered comp growth in the heart of our target range.

We overdelivered against our earnings per share target.

We also set Q2 records for revenue, earnings, operating margin and operating cash flow.

And we returned nearly half a billion dollars to shareholders through dividends and share repurchases.

At the same time, we invested back into the business, including the addition of 335 net new stores globally and by introducing La Boulange lines to over 3300 US company-operated and licensed stores.

It's important to note that many of our metrics were impacted by unprecedented store closures and other disruption from severe weather in the US.

With that said, the 6% total company comp number was still very much in line with our targets.

We also saw excellence balance globally in our comp growth with two regions at 6% and one at 7%.

Consolidated net revenues were $3.9 billion, an increase of 9% from last year, despite unfavorable impacts from both weather and foreign currency exchange.

Consolidated operating income grew 18% to $644 million in the second quarter, a full $100 million higher than Q2 last year.

Consolidated operating margins expanded 130 basis points to 16.6%.

Importantly, margins expanded in all four recording segments.

100 basis points of commodity cost capability coupled with strong sales leverage drove the improvement.

Taking a quick look at regional profitability, operating income in the Americas grew to $606 million, an increase of 10% over last Q2.

Operating margin expanded by 50 basis points to 21.6% due primarily to favorable commodity costs.

We did experience a bit of suppression to Q2 margins due to incremental marketing investment.

However, we anticipate greater leverage to resume in the second half of the year.

The combination of solid company-operated and licensed store growth is driving EMEA profitability higher as well, with operating income growing 240% over last year to $18 million.

We also drove significant expansion and operating margin up 380 basis points to 5.7% in Q2 with improvements in every line item.

Sales leverage, combined with our intense cost focus across the region, both in stores and in G&A, were key drivers to the market expansion.

Moving on to CAP, operating income of $87 million represented strong growth of 27% over last Q2.

CAP operating margin expanded 80 basis points to 32.8%, as we were able to successfully offset the unfavorable margin impact of the portfolio mix shift towards company-operated stores through leverage on strong sales.

And our joint venture partnerships continue to thrive with particular strength in South Korea and in East China driving 21% growth in JD income in Q2.

And flow-through for channel development in Q2 was exceptional, as we leveraged 10% revenue growth into 35% profit growth to $127 million.

This was aided by another solid quarter from our North American coffee partnership, primarily due to strong sales of bottled frappuccino and iced coffee.

Operating margin of 34.4% was a 660 basis point improvement over last year.

The largest driver of this improvement was favorable coffee costs contributing 510 basis points.

Sales leverage and cost efficiencies also contributed to the margin expansion.

With regard to our other segments, revenue of $119 million was down slightly from last Q2.

We saw continued growth from our newer emerging businesses, including Teavana and Evolution Fresh.

However, these were more than offset by lower revenue from Seattle's Best Coffee, as we lapsed significant inventory fill for new account activity last Q2.

Our operating loss in all other segments expanded slightly in the second quarter to $8 million due to investment in our emerging businesses.

Adding it all up, our robust global revenue growth and margin expansion drove earnings per share to a Q2 record of $0.56.

Finally, a quick comment on liquidity.

In addition to amounts available under our credit facility, we had $1.2 billion of cash and cash equivalents at the end of the quarter.

Q2 operating cash flow was $418 million, up 37% from last year, driven by strong business unit performance and ongoing working capital efficiencies.

Now that we're halfway through FY14, I will provide an updated outlook for the back half of the year.

With the overdelivery on EPS in Q2, we are now targeting full year FY14 EPS in the range of $2.62 to $2.68.

That represents very strong 20% to 22% growth over FY13 when excluding last year's non-recurring gains due to the sales of equity in Mexico, Chile and Argentina and the fourth-quarter recording with the Kraft litigation charge.

Specific to the third quarter, we continue to target EPS in the range of $0.64 to $0.66.

And with better visibility into our business outlook for Q4, we are now targeting EPS in the range of $0.71 to $0.75.

With respect to commodities, we continue to expect a $0.09 to $0.10 EPS benefit for fiscal 2014, which is net of pricing taking in CPG last Q3, as well as investments back into our business.

Our coffee needs are virtually locked for 2014 and more than 40% locked for FY15 at prices slightly favorable to 2014.

So while coffee prices remain volatile, bouncing back up to over $2 per pound this week, our strategic coffee buying practices have insulated us from an impact this year and will allow us to continue to target stronger earnings growth next year.

Consolidated operating margin for FY14 is now expected to add approximately 175 to 200 basis points.

We continue to expect moderate improvements -- improvements in the Americas -- consistent with the first half of the year.

In EMEA, we remain on target for operating margin reaching the high-single digits as evidenced by our strong performance so far this year.

In CAP, we continue to target operating margin in the low 30% range, including year-over-year margin deceleration in Q3 and Q4, as we allow the extremely strong Japan performance of last Q3 and some non-routine items in last Q4.

In channel development we are now targeting approximately 500 basis points of margin expansion in FY14 driven largely by lower coffee costs and leverage on revenue growth.

Due to a lower than anticipated tax rate in the first half of the year, we are taking our full year tax rate target down slightly to 34%.

All other targets remain unchanged, including revenue growth of 10% or greater, strong global comparable source sales growth in the mid-single digits, 1500 net new stores globally, and capital expenditures totaling approximately $1.2 billion.

Halfway into FY14, we are extremely pleased with where our business stands.

The first half of the year was challenging, with a soft holiday period, unprecedented winter weather and political instability in a number of our global markets.

However, our customers, our partners and our brand have been extraordinarily resilient.

Through these challenges, we have grown revenue by more than 10%, we've grown earnings 20% and we've expanded operating margin 200 basis points.

Our business model is built to adapt, it was built to scale, and it was built to deliver results even in the most challenging period.

It has done that.

As we look to the second half of this year and beyond, we are extremely well positioned to benefit from investments in our people, in our stores and in innovation to continue to deliver world class shareholder value.

With that, I would like to turn the call back over to the operator for Q&A.

Operator?

(Operator instructions.) Sara Senatore, Sanford-Bernstein

Thank you very much.

I want to ask a quick question about a comment that Howard made about being understored in the US.

And I guess -- or in North America.

Obviously, it's very hard to poke holes in such a strong comp.

But one of the things that I noticed is you did step up unit growth over the past year and we have seen transactions start to trend a little bit lower.

So maybe I'm off here and maybe this is strictly weather and ex-weather, your traffic would have been in the 4 to 5 range, but is there any reason to be concerned that maybe stepping up unit growth, there is some cannibalization impact that happens?

Thank you.

Thank you for the question.

I wouldn't isolate any quarter or any period whether it's been any slight downturn in traffic as any indication of a slowing or a lesser opportunity than we strongly believe we have.

We have done a fair amount of research this year with regard to the share of coffee occasions that we have.

As well as looking at the density of our stores in relationship to revenue and share.

And I can tell you that there is a strong indication that we have a significant upside in the US and in Canada.

Also, I think we have done a very good job over the last 12 to 18 months in creating store designs that are linked to real estate segmentation which gives us the ability to almost create any configuration now in terms of size and the kind of real estate it is.

And as I indicated in my comments, this new drive-through opportunity that we think we have both in the traditional sense and in these walk-up drive-throughs and drive-through onlys are very, very unique and proving to be a very strong economic model.

And I think, playing off Troy's comments, there is so much upside we believe in the incrementality of creating new day parts, fulfilling the needs base that customers have other than the peak morning period.

And as a result of that, we can put Starbucks stores in areas that previously we probably thought were not the kind of stores that we would have gone after because they were morning day part driven.

So I think we've got significant upside.

And I also want to say one other thing very quickly: This is not 2007, where we're going to grow the company in an undisciplined way.

The discipline and thoughtfulness around our real estate strategy, both coupled with the qualitative nature of design and the quantitative analysis that we're putting these decisions through are very, very strong and very disciplined.

But we do believe, in short, that we have a significant level of runway domestically and in Canada.

And just to follow-up, you could maintain the traffic that we have seen so strong with this additional growth?

I don't -- I don't see any reason in the near term that we can't have mid- single digits in our Company in terms of comp growth and a significant portion of that over time will be transaction growth.

Thank you.

Your next question comes from David Palmer, RBC Capital Markets.

Hi, and congratulations on the quarter.

You said in the opening remarks that you were starting to leverage My Starbucks Rewards with more directed marketing, which I found interesting.

Could you expand on how you might be evolving your marketing and what impact that will have?

And relatedly, is it possible that you'll be making alliances with retailers to find ways to share loyalty programs and perhaps spread this targeted approach across the channel to get that -- the benefits to the channel development segment?

Thank you.

Thank you, David.

Adam Brotman, our Chief Digital Officer is here.

Let's let him answer that question.

Sure.

On the first part, David, we are seeing an increasing amount of ability for us to learn what is really relevant for our customers because of the data that we have from their card and loyalty purchases.

That is driving our ability to drive incremental revenue in our core business through personalized offers and use more relevant communications in general.

And then as far as the second part of your question, we are indeed seeing the expansion of stars as currency and stars down the aisle, as Howard mentioned and as Troy mentioned.

And that's something that we are going to continue to build on.

So we mentioned we have had nearly 5 million stars redeemed already.

We continue to see better results than we expected in terms of stars down the aisle.

And we plan on continuing that.

I must underscore something that Howard said in his remarks and Adam just alluded to, but it's important to recognize this.

We are in the very, very early stages of building out this entire digital program, understanding how to connect with customers across multiple channels through the loyalty program, the experiences that they have in stores, and with the power of the stars that we're already seeing -- we're already seeing in the still early, early days as that translates down the aisle.

Very early days, so much more to come ahead of us.

Thank you.

Your next question comes from David Tarantino, Robert W. Baird.

Hi.

Good afternoon.

Congratulations as well.

I wanted to ask about the traffic trends in the Americas segments being up 2% this quarter.

And I know you've referenced weather several times and I think, Troy, you mentioned that the traffic accelerated as the quarter progressed which seems to mirror the weather impact.

Could you talk about the context of that number and what you think maybe the underlying trend might have been outside of the weather impact?

David, let me start that and then I'll have Cliff Burrows give you some expansion on it.

First of all, as we've said, there's no question that it was an acute extreme weather quarter.

Of course, that is underlying our performance.

I'm not going to put a number on what things would have been without.

But in terms of the quarters we have measured in our history, we had more stores closure and more disruption to opening hours than we have ever experienced before since we have kept track of things.

So a very few quarter.

With that said, we couldn't be more ecstatic that we've delivered 6% comp growth in that kind of environment.

And I think that speaks to the power of brand, what our food program is proving, loyalty as it's driving customers, the experiences that we're providing every day.

All of those things are what have helped us overcome what everybody else out there is experiencing as flat to negative growth as a result of weather, that has allowed us to deliver 6% comp growth.

We did see an acceleration, as I mentioned, throughout the quarter.

Again, not to comment specifically on what it would have been with or without.

But a very, very strong result overall and something that we're very pleased.

And perhaps Cliff can add more texture.

Yes.

I'm not sure there's a great deal of time just to say we're really pleased with the quarter.

Not only did it disrupt our lives and our operation -- the extreme weather -- but it also, obviously, disrupted the lives of our customers and they changed their routines, they changed their habits.

And we will see over time, I'm sure, the balance of ticket and transaction change.

But as was said by Howard earlier, if we look forward, we are confident that we can maintain that mid single digit comp growth and the balance of ticket and transaction will change I'm sure from quarter to quarter.

As we sit here heading into spring and summer, I don't think we have had this strong of a pipeline product that we think is really, I think, on target for what our customers are expecting for us in terms of beverage innovation.

And I think we're all hoping that we're going to get a very unique level of response given the power of Oprah Winfrey.

Thank you very much.

Your next question comes from John Glass, Morgan Stanley.

Thanks.

Scott, I know you said that coffee is still volatile, et cetera, and you've locked some in for 2015.

But if you had to lock it in today around these prices, what kind of headwind do you think it proposes to 2015 and, perhaps more importantly, I think earlier in the quarter you talked informally about some offsets you think you could have in a number of areas.

What are those, and have you evolved your thinking about how big those offset cost opportunities are?

Yes.

We haven't really quantified it because it depends on so many things.

It depends on where the market is, how much pricing we view between now and then.

You can honestly calculate it at any point in time that, given where we are today and the fact that, frankly, over the last couple of months, we haven't been pricing a lot of coffee.

Because of the length of our position both for this year and next year, we, a bit, have the luxury of time, if you will, to see how things settle out in Brazil.

The second part of your question, to be more specific, when we look at various scenarios -- when we do the calculations, we know that up and down the P&L, there are all sorts of things we can do to offset -- taking a look at investments we make, taking a look at our cost structure, and those are things we'll do if we need to as things get more clear on the coffee price side.

The thing to remember is that coffee is only about 15% to 20% of our COGS and occupancy line on the P&L.

It's less than 10% of our total operating costs.

And so just to scale it, that gives us quite a bit of flexibility on things we can do.

And John, I'll underscore what Scott said but step up a bit and look at this in a historical context.

We have, over a lot of years, faced these kinds of movements consistently time after time.

The last time, just being a few years ago.

And it's important to remember that during all of those times we delivered very strong earnings growth margin expansion.

In fact, overdelivered in our earnings range during the period of that difficult coffee cost rise of just a few years ago.

So my point being that, number one, we are as protected as I think anybody and more so than most with respect to forward pricing and contracts.

We have long relationships with our farmers and have great confidence in delivery in our ability to continue to manage what is happening in the marketplace.

And we also have increased disciplined capability around managing the P&L, as Scott has referred to, that gives us every ability to continue to deliver great strong growth almost despite what may happen in the broader coffee markets.

That is very helpful.

Thank you.

Your next question comes from Sharon Zackfia, William Blair.

Hi, good afternoon.

Howard, you made some interesting comments about licensing out the technology and being a consumer analyst -- I'm not a technology analyst -- I'm just curious as you think about it as a company, what would be the potential risks to you licensing out your technology?

Let's go back to what I said so there's no misunderstanding.

We have been approached by tech companies and national retailers as to whether or not we would consider licensing or white labeling the Starbucks mobile platform.

I think you have to ask yourself, why are they asking us to do this?

We had such a significant lead.

There isn't a company that we can identify that is processing anything close to a million transactions a week and we're now way over 5 million.

Most of the national retailers did not invest ahead of the growth curve, did not have the capability in house at this point to really execute this and to fully understand it.

The tech companies themselves obviously have the tech background and the insight, but they do not have the interface on the physical side with the consumer to execute this.

So we are in a very unique position, having kind of solved the chicken and egg problem of both the digital technology and, obviously, the interface with the consumer.

I think we don't look at it as a risk.

We look at it clearly as a very significant upside.

And the question we're asking ourselves -- and we're asking it through a very positive lens -- is we strongly believe that there is an opportunity to create a monetization here that will be very complementary to the core business and, in a way, could add a flywheel effect of exposing more people to the Starbucks platform.

We have not made the decision as to what we will do.

But I can share with you that we are actively pursuing a number of conversations because we strongly believe that, one, there is a tidal wave of consumer adoption, smart phones and mobile commerce and we are in the sweet spot of being in a position to take advantage of that in a very unique fashion.

And, I should say, domestically and internationally, don't forget we are doing this now in over 20 countries.

Your next question comes from Joe Buckley, Bank of America Merrill Lynch.

Thank you.

Can I ask you to talk a bit about the channel development segment and the opportunities both in the US and internationally over the next year or so?

Sure, Joe.

Thanks for that question.

We will have John Culver, Group President, China-Asia Pacific, as you know, but also Channel Development speak to that.

Yes.

Thanks a lot, Joe.

Obviously, we're very excited on the quarter performance of a double digit revenue growth, 10%; operating income growing at 35%; and margin expansion of over 600 basis points.

So momentum in the business continues to grow.

And particularly as it relates to our K-cup execution.

For the quarter, K-cups grew 33% on the quarter versus a category growth of about 28%.

And we finished the quarter with the highest share ever since we launched K-cups.

So really strong momentum in that business and with the -- with the new agreement with Keurig, we're in a much better position to add SKUs as well as to accelerate the growth down the aisle as it relates to K-cups.

On the packaged coffee side, we've also done a lot of work around innovation in that area, introducing the new package graphics, as well as introducing new Blonde SKUs into the mix, as well as adding to the Pike Place Roast expansion as well.

Stars Down the Aisle continues to be a big piece of the growth in Channel Development.

As was previously mentioned, 5 million stars redeemed.

And really leveraging the strategic flywheel that we're building on the digital platforms through our retail stores and driving those customers from our retail stores down the aisle.

From an international perspective, we are very bullish on the opportunity internationally, particularly as it relates to ready-to-drink and the opportunity to exist there.

We have strong businesses that have been built in Japan and Korea.

We launched China earlier this year.

And we continue to see very strong momentum and performance as it relates to the international business.

And we are making investments in that area.

Jeff Hansberry, who recently ran Channel Development, is now in Asia running not only our retail business, but is charged with integrating the channel business into the retail business there.

So a lot of positive momentum and we're very excited about the future.

Is the ready-to-drink opportunity a North American opportunity as well, or do you see that as international?

Joe, I think it's both.

I think we've got a very strong ready-to-drink business here in the US.

We've got an 11% share of the coffee and energy category.

We grew share in the quarter 40 basis points here in the US And we've got a strong level of base business with our bottled frappuccino, our double shot, and then a pipeline of innovation coming as it relates to iced coffee, as it relates to refreshers.

And then also our discoveries -- multi-serve product that we have introduced recently in the last couple quarters.

So both domestically as well as internationally, RTD will be a big piece of the growth opportunity for the channel business overall.

Thank you.

Your next question comes from Karen Holthouse, Credit Suisse.

Hi.

Congratulations on a great comp in the quarter despite all of the headwinds.

One of the things that I think there is a huge opportunity for longer term is the lunch business.

And when you look at, sort of, driving that lunch in afternoon day part, have there been differences in adaption in suburban markets where having drive-throughs might add a unique convenience factor to that?

And then, also as you have started to do some targeted offers around it, how successful has that been at starting to drive frequency in the day part versus the core breakfast day part?

Yes, Karen.

It's Cliff Burrows.

Thanks for the question.

Obviously our focus over the last -- really, the last two years has been the acquisition of that launch, finding this fantastic range of products and capability and then building infrastructure to roll it out, and as we said, to have 6,000 stores and 2,500 licensed stores.

At the same time as we are doing that, we are starting now to really test lunch and we will be starting that test in -- in a significant number of stores in summer.

And I would expect us to start rolling that out in 2015 and get to most of the markets during that time.

Lunch -- over the last couple of years, we have seen growth with our paninis, with our salads and with our sandwich range.

So we know the opportunity there.

But we know we're only just beginning.

What we will be doing is leveraging what we have learned around breakfast and that, in part, is not only pastries but is what we have done recently with breakfast sandwiches.

So that basis, plus the infrastructure around the three temperature distribution platform and freezers in stores gives us opportunities to serve all our stores.

Sometimes remote markets and sometimes drive-through.

One of the things that has been really encouraging for us is the strength of adoption and purchase of food items through the drive-through.

And I think we have really cracked the code on how we optimize the customer experience with the connection with our baristas.

How do we manage a tight range of products to best serve our customers.

So you're going to see us adapt the range in drive-through.

You're going to see us adapt it through remote markets, and you're going to see us utilize our three-temperature distribution.

So lots coming there.

And we're excited for all of the opportunities in 2015.

We have started the journey with food.

Delighted with the quality that we have been able to deliver.

And we keep getting stronger and stronger.

So much more to come.

Thank you.

Your next question comes from Jason West, Deutsche Bank.

Thanks.

To touch on that same topic a little bit.

You mentioned, I think, food added a couple points to comps in the quarter.

I was wondering if you could frame that versus what had been adding in prior quarters.

There has been talk about some hiccups in the rollout there and some press articles about the consumer response to some of the items.

If you could, kind of, go over how you feel about the success of what you have rolled out.

Do you need to make changes in the way things have been executed, whether it's product or the actual rollout?

Jason, thank you for that question.

There is no doubt the challenge we set for ourselves to transform our food business in a very quick time, we are really, really delighted with the progress.

We set ourselves a two-year time frame to roll this out across the whole of the US, to put in a consolidated food platform, distribution channels and transform the way we deliver food to our customers, and we have learned a great deal.

One of the advantages with having this in-house capability is we can check and adjust very, very quickly.

Each rollout we have done has gotten stronger than the one before.

The ones that we rolled out since the turn of the year have been absolutely fantastic.

We have listened to the customers.

Sometimes we will change the ingredients.

Sometimes we will change the shape of the products.

In our stores next week will be the new ingredients in a familiar form for Lemon Loaf Cake which I think will be extremely well received.

Add to that the strength of the breakfast sandwich platform.

We're up 150%.

And add to that a fantastic response that we have had to the croissant.

We are really, really pleased with it and we're building a new capability.

Thank you, Cliff.

And, Jason, let me add a couple points to that.

First of all, food in most recent quarters have been closer to a point -- or a strong point of comps.

So we're seeing an acceleration of the contribution from food.

And remember, that is coming despite the fact that food is only in three-fourths or so of the US system.

We're already seeing -- we're already seeing that significant contribution.

So it's very powerful.

It's a huge contribution to the business.

It is natural and normal in any major system rollout we do, going back to the days when we rolled out frappuccinos to refreshers a couple years ago, that we'll always do learnings and check and adjust.

Most importantly, focused on, What are we hearing from our customers?

And if there's a place for us to respond, we will do that.

It's important to note that there is nothing more that we're doing in La Boulange than we do in any of those rollouts historically.

So, frankly, it's been a bit overblown what these changes or issues are.

There aren't any.

In fact, truthful, will be at its highest level -- highest historical level this year.

There is absolutely no slowdown in the business.

Food is an important contribution to comp growth.

We expect that that tailment from food will continue for the next year or two at least, as we continue the bakery rollout and then move on to lunch.

So very significant contributions.

Overwhelming -- overwhelmingly positive feedback from customers, and we couldn't be more excited about what the food will do for us in the quarters ahead.

That is helpful.

Thank you.

Your next question comes from John Ivankoe, JP Morgan.

I think I have two questions related to the same point.

Store operating expenses in the Americas didn't lever in this quarter despite the comps.

Was it something like weather that maybe influenced your ability to pick up time and labor in and out of the stores?

Was there something unusual that might not repeat?

Secondly, maybe related to that line or maybe not, when we see the use of the Starbucks card grow mobile which is now 14% and is growing very, very quickly, does the consumer use of mobile allow you to perhaps change the cost structure in the store -- significantly enhance or change the customer experience in perhaps ways that we're not thinking as more and more consumers use the mobile platform to interact with your store?

So I'll take the first part, then I'll turn it over to Adam for the second part.

This is Scott.

There is a number of puts and takes in the store operating expenses.

But I would say that it was definitely impacted by both -- for the Americas -- by both weather and foreign exchange as revenue was impacted.

So we did see core operating leverage excluding that.

And mobile payment is definitely helping us with the -- both the customer experience and the store operational experience in terms of key areas which is throughput.

We are taking -- it's not only the fastest and easiest way to pay, we are taking reloads out of the line and giving customers more information literally at their fingertips as they're waiting in line around personalized offers, where they are with their loyalty status and their star count.

In terms of the longer term -- John, it's Cliff -- I would really see us utilizing any efficiency that we get from mobile payments to focus on our customer experience.

We are introducing a fantastic lineup, whether it's new frappuccinos this summer, whether it's the Teavana Oprah Chai Tea or whether it's Fizzio later in the year.

So any benefit we can get, we're going to use that opportunity to share these fantastic new products with our customers.

Thank you.

Your next comes from Jeffrey Bernstein, Barclays.

Great.

Thank you very much.

Actually just one clarification and then a question.

Troy, the clarification, I think I have heard in your commentary recently, I'm not sure if it was from yourself or others, but specific to commodities and everyone's focusing on coffee.

I was just wondering, I thought I heard that dairy should be more concerning and we should be paying more attention to dairy versus coffee.

I was wondering if you could add some color similar to what you provided on coffee in terms on how you protect yourself on dairy and what mix that is.

And then, my question is the ownership structure broadly speaking, both in the US and abroad.

Just wondering whether there are any shifts, or directionally, which way you guys are thinking in terms of -- the US, I guess it's 60% company ownership.

I'm wondering whether you think about moving that more towards licensing.

Obviously, you've already done that in the EMEA.

I think you mentioned it's now 60% licensed.

Looking back a few years, it was 40%.

Is there further opportunity to take that to 80% or whether 60% is the right amount in the EMEA.

Thanks.

I will have Scott take the first question related to dairy commodities and what we do in that space, and then I'll talk about ownership.

Thanks, Jeffrey.

I think the first thing I'd say about dairy is we do hedge dairy out about three to six months.

The challenge of dairy is the market for hedging and price protection is just much shallower and much shorter than it is for coffee.

But we do protect ourselves out a couple of quarters.

So we have been able to manage through some of the price increase that we've seen in dairy.

With that said, we have seen some headwind.

We still, in that commodities cost favorability of $0.09 to $0.10, so that's all inclusive, so we're completely confident we can cover it.

But we do spend a lot of time looking at ways we can hedge and manage dairy costs.

With respect to global ownership, let me speak to each region individually because there is a somewhat varying answer.

In the US, we've always been predominantly company operated.

I expect we will always be predominantly company operated.

About 60% or so of the stores in the US owned and operated.

In the coming years, we see a tremendous opportunity to continue accelerating licensed store growth.

So it's likely that licensed stores will grow somewhat faster than the company-owned units, even though we are accelerating both in the US in the coming years, given the opportunity that we see that even with that licensed store growth, we will remain still predominantly company-operated in the US.

And with the very, very strong returns both at the P&L level and also return on capital even with that predominantly operated structure.

In EMEA, we began discussing and articulating with all of you a year or two ago our very focused strategy to migrate more towards a licensed structure.

We are well on that path, as I commented in my earlier remarks, and we'll continue on that path.

We are not at the ending point yet with the licensed opportunities that we have.

That we see opportunity to add a high return of capital company-owned stores in places.

But far and away, our growth will be dominated by licensed executions in Europe.

And that will continue over a long period of time to shift that ownership mix more towards licensed in the EMEA.

And then in Asia-Pacific, it's actually somewhat different.

We have been predominantly licensed, going back to our earliest days of opening in that region back in the late '90s.

And we are on a progression now towards shifting that mix a bit closer to company-operated, particularly as we accelerate growth in China with the amazing returns and the huge opportunity that we see in China.

So Asia-Pacific will slowly push a bit more toward company-owned over time, although still likely remain 50/50 or strong report licensed for the long run.

Thank you.

Your next question comes from Diane Geissler, CLSA.

I wanted to ask the role on the evening hours, moving from tests into launch.

Not every store is going to be conducive to having evening hours.

Can you talk about what percentage of the store base you think will add that day part and also, kind of, the time frame that you would envision?

Yes, thanks, Diane.

It's Cliff.

We have been testing evenings in about 25 stores in a number of cities across the US.

We have been testing in urban locations and in suburban locations.

What we have seen is the wine and beer gives the opportunity or the occasion for people to use our stores in a later day part.

And they use it as a meeting place, use it as a relaxing place, they use it for informal social groups to meet.

What we are seeing, which is really positive, it's not just about wine, but it is about the shareable plates and the food.

It is also people buying our traditional beverages -- our core beverages.

And that's a really healthy place to be because the tone and mood of the store evolves.

We feel very, very confident -- this is now -- it's resonating with our customers.

And gives us an opportunity to grow in day part and increase our revenues and offers to new stores.

We see, as we said earlier, that we can have a thousand or more over the next several years.

We haven't got a final limit in it.

We are just going to learn -- grow our way into it.

It is extremely significant in terms of the number and it is accretive to everything that we're doing in those stores.

She is asking also about hours.

I'm not sure.

The hours will vary greatly because we -- many of our stores stay open quite late.

So, the population -- it just gives us -- I wouldn't describe it as a peak, but it makes the stores much more alive.

And we will push those hours out and adjust them as we do now.

I don't see a major cost increase by expanding hours.

I see it as making more use of the hours we're open.

Okay.

Thank you.

The last question comes from Keith Siegner with UBS.

You may ask your question.

Thank you.

And strong quarter, everyone.

Cliff, one more question for you.

High quality, rapid customized service has always been this hallmark of the retail stores.

Just to circle back, you know, on top of the strong underlying traffic growth, this moving to the three temperature, you know, model, as -- as you add the La Boulange breakfast with more warming and now with Fizzio and then La Boulange lunch, can you talk about the operations hurdles of pulling this all off and maybe tie in what the customer feedback has told you -- not about the products but about the service and is it keeping up with the standards and how you're dealing with this.

Thank you.

Thanks, Keith, for the question.

And really at our heart, in everything we do, we need to make sure we take care of the work our partners are doing and they're able to be successful and proud of it.

We recognize the tremendous substance they've done over the last 40 years and they continue to deliver amazing experiences for our customers.

Everything we do, we are testing to make sure that operationally is as simple as it can be, that it's relevant for the customer and enhances the overall experience.

There's no doubt with every new product there is a learning curve.

And we do everything that we can to give the right tools, to give the right support.

I do believe the work that we're doing around digital -- with mobile technology, over time that will all help and make it a much more stimulus experience.

Obviously as we build new stores, as we refurbish new stores, we look at ways to make it more efficient.

And that journey will carry on.

When we look at Fizzio, the simplicity of making those beverages -- we are learning from the work that we did with frappuccino reinvention several years ago -- just to try to and make that work simple.

So we're very, very conscious of it, Keith.

And, one, we've got a long line of sight to the launch of these products; two, we are testing them; and three, we just keep checking and adjusting -- involving our partners and listening to customers to make sure that we check and adjust.

I think that's the way, Keith, we feel confident and very aware that we will focus on the experience and that relationship between our partner and customer is key to our success.

Thank you.

Thank you, Cliff.

That concludes our call for today, our Q2 FY2014 earnings.

Thank you for joining us.

This concludes today's Starbucks Coffee Company second quarter fiscal year 2014 earnings conference call.

You may now disconnect.